Brief Summary
This video explains how to use moving averages to improve trading consistency and profitability. It emphasizes the importance of using the right moving averages, understanding their relationship to price action, and identifying key zones for potential trades. The core concepts include using a combination of 8, 13, 20, and 200-period simple moving averages, identifying the dominant moving average that the stock is obeying, and understanding the cyclical nature of the market (narrow to wide to narrow states).
- Use 8, 13, 20, and 200-period simple moving averages
- Identify dominant moving average
- Trade in the direction of the dominant moving averages
- Understand the cyclical nature of the market
Introduction
The video introduces a discussion on the best moving averages to use in trading, irrespective of trading style. It promises to show how to use these moving averages to increase consistency and profitability. The speaker emphasizes that moving averages are the most important indicators for determining the best direction of a trade and can help with timing and consistency.
Prerequisites for Using Moving Averages
To properly use key moving averages, a trader needs adequate capital, ideally trading with $50,000 to $100,000, preferably not their own. The speaker advocates for trading with his capital, sharing the gains, and emphasizes the importance of candlestick charts and four key moving averages. He also mentions his "space concept" and directional rules.
Candlestick Charts and Time Frames
The speaker uses a 10-minute candlestick chart of Microsoft to illustrate the concepts. Each bar represents 10 minutes of trading activity, with green bars indicating upward movement and red bars indicating downward movement. The concepts discussed can be applied to any time frame (1 minute, 5 minute, daily, weekly, etc.), depending on the desired duration of trades. The 10-minute time frame is suitable for capturing monster trends intraday, while shorter time frames like 2 or 5 minutes are better for more frenetic day trading.
Key Moving Averages: 20 and 200 Period
A 20-period simple moving average is superimposed on the chart, which averages the closing prices of the last 20 10-minute bars, smoothing out the data. Moving averages are lagging indicators, which is beneficial. The chart shows Microsoft declining with a declining 20-period moving average on the left and trending upward with a rising 20-period moving average on the right. A 200-period simple moving average (the red line) is also added. These two moving averages are considered staple and should always be on the chart, regardless of the time frame.
Adding the 13 Period Moving Average
A 13-period simple moving average is added to the chart. The speaker notes that while some traders prefer exponential moving averages, he has found no evidence that they are superior to simple moving averages. The 13-period moving average gets closer to the price action. The key to finding the most relevant moving average is to identify where the stock has a counterbalance, where the bounce stops and resumes the trend. The moving average closest to that peak is the key moving average.
Identifying the Dominant Moving Average
The speaker explains how to identify the dominant moving average that the stock's trend is obeying. On the left side of the chart, the 13-period moving average is most relevant because the last pullback stopped just short of it and resumed the drop. On the right side, the stock rallies, pulls back, and halts near the 13, confirming it as the dominant moving average. Knowing how to identify this is crucial for successful trading.
Adding the 8 Period Moving Average and the Space Concept
An 8-period moving average is added to the chart. The speaker explains that the 8-period moving average is not the dominant one because Microsoft's drop broke through it. The space between the 8 and 13-period moving averages is highlighted as a zone where a turn should occur. When the desired color (green for upward, red for downward) resumes the trend out of that zone, a trader can strike.
Utilizing the 8 to 13 Period Moving Average Zone
The zone between the 8 and 13-period moving averages is a key area for potential turns. When the stock slips back into this zone and then a bar of the desired color (green for long, red for short) takes it out of the zone, it signals a trading opportunity. Protection is set based on the bar that initiates the trade. The trend is ridden out as long as the stock does not violate the key moving average (in this case, the 13) by two bars.
Space Concept: Narrow to Wide to Narrow
The speaker discusses the "space concept," observing how moving averages cluster together, then separate as a trend starts, and then come back together as the trend weakens. When the three moving averages (8, 13, 20) are wide apart from the 200 and then come close together again, it is a strong sign that the trend is about to reverse. The market repeats these states (narrow to wide to narrow) over and over again.
Understanding Market Cycles for Consistency
The market is described as being "trapped on rails," repeating the same cycle of narrow to wide to narrow states. Understanding where you are in this cycle is key to consistent profitability. Moving averages can indicate whether the market is in a narrow state (about to move into a trending state) or a wide state (likely to return to a narrow state, indicating a potential reversal).
Key Principles and Examples: Nvidia and Baba
The speaker emphasizes that 85% of trading losses come from inappropriately using moving averages, often by trying to buy against the trend. He advises looking for stocks with all three moving averages (8, 13, 20) pointing in the same direction and entering the trend on pullbacks toward the 8 or 13. Examples are shown using Nvidia and Baba to illustrate these principles. Nvidia's bounce off the 8-period moving average indicates it as the key moving average, while Baba shows a powerful trend with minimal retracements.
Conclusion: Simplicity and Profitability
The speaker concludes by emphasizing the simplicity and profitability of the moving average trading system. He reiterates the key steps: identify the key moving average, get into the bar leaving the key moving average, and protect yourself above or below that bar. The market is not complex; it simply goes up, down, and sideways, repeating the cycle of narrow, wide, and narrow states.
